Japan’s growth potential on track despite shaky start to 2016
Global and domestic turbulence over the past couple of months have taken their toll on the Japanese economy, with the Nikkei 225 hitting bottom in February and market signals painting a bleak outlook.
With the first quarter now drawn to a close, however, there is evidence that prospects and growth potential still exist in Japan, indicating a more upbeat forecast for the country’s economic future than the start of the year may have suggested. The Nikkei 225 has been recovering gradually in line with the broader recovery of the global market, largely thanks to a rebound effect from the previous drop in the market and the bottoming out of oil prices.
Weaker than expected results from the latest Bank of Japan’s (BoJ) Tankan Survey (1 April 2016) highlighted the impact of a slowdown in China and emerging countries’ economic growth on Japanese exporters throughout the quarter. Despite this, the domestic demand sectors within Japan are showing potential, with increased growth and overseas expansion.
Companies in the Food and Consumer sectors, such as snack manufacturer Calbee and consumer product producer Kao, have forged paths overseas as a result of demand from consumers in Asia. These companies, which traditionally drew strength from domestic sales, have seen a large increase in their overseas sales ratio and have the potential to expand further as middle class populations with money to spend in Asia demand safe and reliable Japanese brands.
Japanese companies are also being encouraged by both the government and the BoJ to use their extensive stockpiles of cash. Now that the BoJ’s negative interest rate policy has made it expensive for businesses to sit on their hoard, they are being ushered into actively using their funds for investment.
Investments in corporate spending have been increasing, with Japanese M&A expenditure hitting a ten year high in 2015 of more than 15 trillion yen according to research provider Recof. Companies are snapping up businesses that open the doors to new markets and consolidate their plans for the future.
The Tankan Survey results increased the possibility of further easing by Japan’s central bank at its next meeting in April as well as a supplementary budget and fiscal stimulus from the Japanese government in order to raise economic prospects. It will be a waiting game until the G7 Summit in May when these measures, as well as a move to postpone the next consumption tax increase, are likely to be announced.
Based on SuMi TRUST’s fundamental research, we expect that there will be high single digit percentage earnings growth for Japanese companies this year. Mr Abe’s continuous efforts to cut corporate tax have been warmly welcomed. Cutting the current rate from 32.1 per cent to below 30 per cent has put Japan’s corporate tax on a competitive level globally, benefitting Japanese businesses.
Turning to the FX market, the current USD-JPY rate is arguably damaging the ability of exporters in Japan to make a profit. However, the rate is still largely favourable at around 110 JPY to the dollar based on current annual research conducted by the Cabinet Office. This rate still has enough of a buffer to ensure profits to exporters, and there were still be room for profit even if the rate were to fall even further.
It is likely the USD-JPY will hover around 110-115 in the short term but depreciate to 120 in the mid-term. Key to this will be a US rate hike. Once the US economy gets ready to increase rates and there is more stability in global financial markets, the JPY may fall to 120 yen to the dollar.
Japan’s future is brighter than one may have thought during the Nikkei’s plummet in February. By the end of 2016, we expect the Nikkei 225 to go up to 18,500 (1,500 in TOPIX) based on sound corporate earnings growth and the combination of factors outlined above. The year might not have started on the right foot, but the basis is there for Japan’s economy to be on its way up.
Katsunori Kitakura, lead strategist at SuMi TRUST